(Reuters) - The Australian dollar fell sharply on Tuesday after the Reserve Bank of Australia slashed rates by a deeper-than-expected 50 basis points while the U.S. dollar hit a fresh two-month low versus the yen as soft U.S. data weighed on the greenback.
A sharp fall in business activity in the U.S. Midwest combined with data on Monday showing Spain was in recession dented investor appetite for risk and supported the safe-haven yen, which also rose against the broadly weaker Aussie dollar.
Markets had been expecting a 25 basis point rate cut from the Australian central bank (RBA) and the surprise drove the Australian dollar down more than 1 percent to $1.0312 and to a three-month low near 82 yen.
It traded near a five-month low against sterling, which rose above A$1.5700.
The Aussie has further to go down in the near term but I would be surprised if it went below the April lows around $1.0225, said Ian Stannard, Head of European FX Strategy at Morgan Stanley.
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The fact that the RBA moved more aggressively this time should reduce the risk of follow-up cuts and ultimately provide support to the currency, he added.
Market players say the currency could find support with Australia still boasting the highest interest rate among major currencies, at 3.75 percent.
The dollar fell 0.1 percent on the day to a fresh two-month low of 79.64 yen as expectations U.S. interest rates will remain on hold for some time to come were reinforced by Monday's U.S. data which followed weaker-than-expected U.S. growth figures last week.
Japan's top financial diplomat said on Tuesday the rapid appreciation of the yen since the end of last week reflected market speculation and he was ready to act if needed.
With many in the market still holding short yen positions built up as Japan eased monetary policy this year, traders and strategists saw potential for a further reversal from the year's highs above 84 yen.
Key in our view might be that those that went long dollar/yen above 82 yen are being forced to sell out of their positions, ING said in a note.
Market players said dollar/yen charts looked bearish after the pair broke below major supports such as the cloud top on its weekly Ichimoku chart at 80.42 and the 50 percent retracement of its February-March rally at 80.10.
The next key support was seen at the 100-day moving average at 79.58 but some saw it testing more important support at around 78.10, the cloud bottom on weekly Ichimoku charts.
The yen may still be hampered by speculation about further monetary easing from the Bank of Japan even though the bank's action last week, when it expanded government bond purchases, was seen generally as an incremental rather than significant step.
Signs of weakening momentum in U.S. growth have rekindled speculation further monetary easing could follow from the Federal Reserve and kept the dollar under pressure as it hit a two-month low versus a basket of currencies at 78.622. .DXY
The euro edged up 0.2 percent to a four-week high above $1.3270 in thin trade. With many European centers closed for the May Day holiday, quiet trade was anticipated before Thursday's European Central Bank meeting and weekend elections in Greece and France.
(Additional reporting by Hideyuki Sano, editing by Nigel Stephenson)